While retirement planning may not be at the top of your list—especially if you’re young—it’s always good to start saving for your golden years sooner rather than later.
It can be a daunting task and if you’re only able to put a small sum of money away each month, you can become frustrated with how slow your portfolio may grow in the beginning. If this sounds like your retirement portfolio, you might want to consider getting an RRSP loan.
What’s an RRSP loan?
An RRSP loan is a great way for you to maximize your contributions. Essentially, you’re borrowing money so that you can put more into your RRSP. This allows you to receive a higher tax deduction and can supercharge your savings.
While RRSP loans aren’t for everyone there are a few items to consider before deciding if an RRSP loan is right for you:
The interest rate – Many financial institutions offer a relatively low interest rate at prime (currently at 2.7%) or slightly above prime. This is important to note when you’re deciding whether or not to get an RRSP loan. You’ll need to ensure that you’re receiving a higher rate of return on your investment than the amount you’re paying in interest. For example, if you borrow at 2.7% and deposit the money in a GIC or high-interest savings account that pays less than 2.7% in interest, then it’s not worth it.
What type of investment you’ll purchase – It’s important to adequately research the investment you’ll hold in your RRSP. Essentially, you’re leveraging your money, or borrowing to invest. This means picking a high-risk investment is even more riskier. You may end up owing more than the total value of your investment if it declines.
When you plan on paying back your RRSP loan – How quickly you pay back your loan is directly proportional to the amount of interest you’ll be paying. The faster you pay back your loan, the less interest you’ll pay. Experts suggest paying back your RRSP loan within one year so that the interest charges don’t wrack up and eat away at your returns. A good rule of thumb is not to borrow more than you can pay back in one year. Most people use their tax refund to repay their loan faster.
Your interest isn’t tax deductible – Typically the Canada Revenue Agency allows you to deduct the interest you pay on a loan if it’s used to purchase income-generating assets. However, that’s no longer the case for RRSP loans.
Determining whether an RRSP loan is right for you is dependent on a variety of factors. Depending on the investments you choose to purchase and the rate of return you think you’ll receive will factor into how much you’ll borrow and at what rate. You should complete a cost-benefit analysis.
At the end of the day, how comfortable you are with taking on debt will also play a role in the amount you’re willing to take on. An RRSP loan can be a great choice to bolster your portfolio but care should also be taken to ensure you’re in a financial position to do so.